Capital Gains Tax for contractors selling their Limited Company

For most contractors, the Limited Company is a vehicle rather than a business to be sold. But when it comes time to wind down — whether through retirement, switching to permanent employment, or a career change — there are two choices: a formal Members' Voluntary Liquidation (MVL) or an informal strike-off. Both can result in capital treatment for the final distributions, and both interact with Capital Gains Tax and Business Asset Disposal Relief. Getting this right can save tens of thousands of pounds on the final extraction.

When CGT applies to contractors

Capital Gains Tax applies to contractors in several scenarios:

1. Selling the Limited Company to a third party. A contractor who has built a genuinely valuable business (significant recurring revenue, goodwill, IP, client relationships) may sell the shares. The proceeds above the original investment are a capital gain.

2. Members' Voluntary Liquidation (MVL). A solvent liquidation where the company's assets (typically cash retained as profit) are distributed to shareholders. Distributions via MVL are treated as capital (not income), making them subject to CGT — not dividend tax.

3. Informal strike-off (under £25,000). Where the company's remaining distributable assets are below £25,000, HMRC allows an informal dissolution via Companies House. Distributions via strike-off can also receive capital treatment, avoiding dividend tax.

4. ESS / share schemes (beyond the scope of this guide).

For most contractor wind-downs, scenarios 2 and 3 are the relevant ones.

The 2026/27 CGT rates

Following the Autumn 2024 Budget, CGT rates on most gains (including business assets and shares) are:

| Taxpayer band | CGT rate (2026/27) | |---|---| | Basic-rate taxpayer | 18% | | Higher/additional rate taxpayer | 24% |

The basic rate applies to gains that, when added to other income, fall within the basic-rate band (up to £50,270 for 2026/27). Gains above that threshold — or for taxpayers already in the higher-rate band — attract 24%.

The annual exempt amount for 2026/27 is £3,000. The first £3,000 of capital gains in a tax year is free of CGT.

For comparison: dividend tax at the higher rate is 35.75% in 2026/27. CGT at 24% is therefore significantly lower — making capital treatment for company wind-up distributions meaningfully more tax-efficient than dividend extraction.

Business Asset Disposal Relief (BADR)

Business Asset Disposal Relief (formerly Entrepreneurs' Relief) reduces the CGT rate to 14% on the first £1 million of qualifying lifetime gains from the disposal of qualifying business assets.

Post the Autumn 2024 Budget, the BADR rate rose from 10% to:

• 14% for 2026/27 (having risen from 10% in 2024/25 to 14% in 2025/26)
• Expected to continue at 14% pending further Budget changes

Despite the rate increase, BADR remains a significant relief. At 14% versus the standard 24% higher-rate CGT, the saving on a £1 million gain is £100,000.

BADR conditions for contractors

To qualify for BADR when closing a Limited Company, you must meet all of the following:

1. Minimum 5% shareholding: You must own at least 5% of the company's share capital and voting rights for at least 2 years.

2. Officer or employee: You must have been an officer (director) or employee of the company for at least 2 years before the disposal.

3. Trading company: The company must be a trading company — its business must be predominantly trading activity, not investment. A contractor Limited Company billing clients for services clearly qualifies. A company that has accumulated significant investment assets (buy-to-let properties, stocks) alongside trading activity may face scrutiny.

4. The 2-year holding period: The above conditions must have been met for at least 2 years before the disposal (for disposals from 29 October 2018 onwards).

5. Lifetime limit: The £1 million lifetime limit applies across all qualifying BADR disposals you ever make. If you have claimed BADR on a previous business disposal, the remaining allowance is reduced.

Most solo contractors who have operated a Ltd for over 2 years as the sole director and shareholder will meet all conditions.

Worked example: MVL with £100,000 retained cash

A contractor is closing their Limited Company via MVL. The company has £100,000 in the bank after all liabilities (including any final corporation tax bill) are settled. They are a higher-rate taxpayer.

Scenario A: Extract as dividends (no MVL)

• £100,000 paid as dividend
• Dividend tax at higher rate: 35.75%
• Tax bill: £35,750
• Net received: £64,250

Scenario B: MVL — capital treatment, no BADR

• £100,000 treated as capital gain
• Less annual exempt amount: £3,000
• Taxable gain: £97,000
• CGT at 24%: £23,280
• Net received: £76,720
• Saving vs dividends: £12,470

Scenario C: MVL — capital treatment, with BADR

• Taxable gain: £97,000 (after annual exempt amount)
• BADR rate: 14%
• CGT: £13,580
• Net received: £86,420
• Saving vs dividends: £22,170
• Saving vs CGT without BADR: £9,700

The BADR benefit alone on £100K retained cash is nearly £10,000. On larger retained balances (say, £500K), the BADR benefit at 14% vs 24% is £50,000 — material enough to justify the MVL cost (typically £1,500–£3,000 for a straightforward case).

The £25,000 informal strike-off route

If your company's distributable assets are £25,000 or less, you can close via an informal strike-off rather than a formal MVL. The process:

1. File final accounts and corporation tax return
2. Pay any outstanding liabilities (including final CT bill)
3. Pay any remaining balance to shareholders as a distribution
4. Apply to Companies House for voluntary strike-off (DS01 form, £44 fee online)

Distributions made during an informal strike-off can receive capital treatment (subject to BADR conditions above) without the cost of a formal liquidation. The £25,000 threshold applies to the total value distributed — not the company's turnover or historical profit.

This makes the £25,000 threshold a useful planning target. If your retained cash is £30,000, extracting £5,000 as a dividend first (reducing the balance to £25,000) may make sense, even after dividend tax, because the remaining £25,000 qualifies for cheaper capital extraction via strike-off.

At £25,000 extracted at BADR rate (14%) with £3,000 exempt: tax = (£22,000) × 14% = £3,080. Compare with £25,000 dividend at higher rate (35.75%) = £8,937. The capital route saves £5,857 even at the small end.

The Targeted Anti-Avoidance Rule (TAAR)

HMRC introduced the TAAR to prevent contractors from closing one Limited Company to extract retained profit at capital rates, then immediately starting a new Limited Company to do the same work.

The TAAR applies where:

• You receive a distribution on the winding-up of your company
• Within 2 years of that distribution, you (or a connected person) become involved in a similar trade or activity

If the TAAR applies, HMRC can reclassify the distribution as income (taxed at dividend rates) rather than capital. This is a targeted rule — HMRC must show that the purpose of the arrangement was to obtain a tax advantage. Contractors who genuinely wind down their contracting activity and do not return to contracting through a new Ltd within 2 years are not affected.

The TAAR does not prevent you from:

• Taking permanent employment after winding up your Ltd
• Contracting through an umbrella company
• Working as a sole trader (though sole trader status does not involve a Ltd, so the question is moot)

It targets the specific pattern of: close Ltd → take capital → reopen Ltd → same trade.

Timing considerations

Tax year timing: CGT is reported and paid via self-assessment, with the tax due on 31 January after the end of the tax year. A distribution in April (early in the tax year) maximises the time before payment. A distribution in March (end of the tax year) requires payment by January of the following year — slightly shorter deferral.

Marginal rate planning: If you are near the basic/higher rate boundary, timing distributions to stay within the basic-rate band may allow 18% CGT rather than 24% — though for most contractors whose income is above the higher-rate threshold throughout the year, this is limited.

BADR application: BADR is claimed via self-assessment (SA108 form). You do not need to pre-register or pre-apply. Your accountant or tax advisor will claim it as part of your annual return.

HMRC sources

Business Asset Disposal Relief is documented at gov.uk — Business Asset Disposal Relief. Capital Gains Tax rates and the annual exempt amount are at gov.uk — Capital Gains Tax rates. The TAAR rules are in Schedule 1 of Finance Act 2016.

Summary

For contractors closing their Limited Company, capital treatment via MVL or informal strike-off is significantly more tax-efficient than extracting remaining profit as dividends (24% CGT vs 35.75% dividend tax at the higher rate). Business Asset Disposal Relief reduces the CGT rate further to 14% on the first £1M lifetime, subject to 2-year holding and officer/employee conditions that most sole directors meet automatically. The £25,000 informal strike-off threshold avoids MVL costs for smaller retained balances. The TAAR prevents "phoenix" arrangements where a new Ltd starts the same trade within 2 years. Getting the timing and structuring right can save tens of thousands — this is an area where taking qualified advice pays for itself many times over.